Shares of NRG Energy Inc (NRG.N) climbed 8 percent on Monday following news that the independent power producer would buy rival GenOn Energy Inc (GEN.N) for $1.7 billion in stock.
The deal, announced on Sunday, will create the nation's largest player in the competitive wholesale power market, a sector that has been under pressure from weak U.S. electricity prices.
Analysts welcomed the deal, which is expected to close in the first quarter of 2013 and yield cost savings of $300 million per year in 2014.
Barclays Equity Research analysts raised their price target for NRG shares by $3 to $22, citing cost savings, an improved credit profile and broader geographic reach for the combined company.
NRG is paying a 20 percent premium over GenOn's Friday closing stock price. GenOn shares rose 27 percent on Monday to $2.32. NRG shares were up 8 percent to $19.50 in afternoon trading after reaching $20.01 a share earlier in the session.
NRG Chief Executive Officer David Crane said the combined company, which will have generating capacity of 47,000 megawatts, will be able to pay down $1 billion of debt while also meeting a planned dividend and perhaps undertaking some share buybacks.
"This is going to be a free cash flow-generating machine," he told analysts at a meeting on Monday.
While NRG will be adding the power plants owned by GenOn, which was formed through the merger of Mirant and RRI in 2010, its strategy is focused on expanding its retail business into new markets.
Crane said the merger will help the company replicate its Texas market model -- where its physical generation is balanced with retail customer demand -- in the mid-Atlantic market where 58 percent of GenOn's capacity is located.
The larger NRG will be able to grow its retail base with lower collateral costs, Crane said.
"The best way to back up retail customers is with wholesale supply," Crane said on a call with reporters. "This sets the foundation for further retail expansion."
With 1.5 million customers, NRG's Reliant retail unit is among the largest in Texas. Last year, NRG purchased Energy Plus which gave it access to customers in the much smaller competitive power markets of New York, Connecticut, Pennsylvania, New Jersey, Maryland and Illinois.
About two-thirds of the merged company's generation will come from gas-fired generation and some oil-fired plants; 31 percent will come from coal plants; 3 percent from nuclear; and 1 percent from solar and wind generation.
While the coal-fired plants of both companies are older, Crane said they are well-maintained and can run economically "for decades to come."
Record low natural gas prices have pared wholesale electric prices to the point "you can't justify building any new type of generation in this country," Crane said, with the exception of some renewable generation and projects with long-term contracts.
That makes existing power plants more valuable despite their age, he said.
(Reporting By Matt Daily in New York and Eileen O'Grady in Houston; Editing by John Wallace and Tim Dobbyn)